SALES COMMISSIONS

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The sales commission is a method of compensating salespeople for the
services they provide to their employer. Under so-called
"straight" commission arrangements, the salesperson receives
a previously agreed-upon percentage of the revenue brought in by a sale
that he or she makes. Commission arrangements can be used for both service
and product sectors. Some employers, however, choose to compensate their
salespeople via straight salaries, thus compensating them in the same way
as other employees, or via a combination of salary and commission.

The chief advantage associated with utilizing a straight commission
arrangement is that it gives sales-people a major incentive to work hard
on behalf of the company. But detractors contend that the compensation
uncertainties associated with such plans sometimes make it difficult to
secure good salespeople, and that their complete dependence on commissions
may lead them into bad business habits. Even detractors, however, admit
that commission set ups do provide salespeople with meaningful incentive
to work hard. As a result, the majority of businesses that maintain a
sales force use some combination of base salary and
commission—also known as incentive pay—to compensate their
salespeople.

"Because selling is so difficult, salespeople need to be trained,
supported, and, above all, motivated," confirmed
The Portable MBA in Entrepreneurship.
"They need sales literature, administrative support to send out
promotional material, and presentation graphics. They also need
incentives
that work—the right combination of commissions, prizes, stock, and
whatever else you dream up. What are you doing in these areas and what do
you plan for the future to upgrade your selling efforts?"

Some small- and mid-sized businesses have been known to balk at the size
of the commissions that they pay to their top-level salespeople. Indeed,
businesses that are engaged in industry sectors that are known for the
sale and acquisition of so-called "big ticket" items, such
as major equipment, or large-volume purchases may distribute commissions
of several thousand dollars or more for a single sale. But most business
consultants urge employers to remember that if they are doling out large
commissions, that also means that those same salespeople are bringing in
lots of business for the company. As the editors of
The Portable MBA in Entrepreneurship
indicated, "A good rule to follow is that when you find something
that works, stay with it, even if it means paying what seems to be obscene
amounts of cash. The best sales-people should earn top dollar."

BASIC COMPENSATION PLANS FOR SALESPEOPLE

STRAIGHT COMMISSION
Under straight commission compensation arrangements, the salesperson
receives a previously agreed-upon percentage of the selling price. The
size of the percentage of the commission may vary from product to product.
Business experts estimate that fewer than 15 percent of American firms pay
their salespeople on a straight commission basis, although the majority of
those companies that do choose this method of compensation indicate
satisfaction with it. The primary benefit associated with this option, of
course, is that it serves as a significant motivator to sales personnel.
Moreover, companies that go this route are not forced to pay high salaries
to salespeople during periods when sales are slow.

But Porter Henry and Joseph Callanan, authors of
Sales Management and Motivation,
indicated that there are potentially significant disadvantages associated
with straight commission plans as well. In some cases, salespeople may
concentrate on selling those products that are easiest to sell, paying
comparatively little attention to high-profit specialty items or new
products that are unfamiliar to prospective buyers. One solution to this
problem is to pay higher commissions on those new or high-profit goods.
Another problem associated with straight commissions is that salespeople
may not put forth as much efforts after they reach a certain level of
income. In such instances, Henry and Callanan recommend that businesses
"adopt a sliding scale, with commissions increasing after a certain
volume has been reached." Other potential disadvantages associated
with straight commission compensation, say Henry and Callanan, include:

Problems hiring new sales personnel—"Candidates for sales
jobs are more security-conscious than they were in the past. Some quite
desirable applicants may be unwilling or unable to face a few months of
inadequate income before building up a satisfactory volume."

High turnover—Another employee retention issue. Many good
salespeople will choose to go to some other company that features a more
secure employee compensation program, unless they are performing quite
well under your arrangement. And even then, salespeople with families
are may well decide that long-term security—embodied in a steady
salary—is preferable to high levels of compensation that could
dwindle away with the next industry downturn.

Execution of nonselling tasks—Straight commission arrangements
often encourage an environment wherein salespeople ignore non-sales
related tasks that nonetheless need to be addressed. "You
can't blame them," wrote Henry and Callanan.
"Commission reps are in effect in business for themselves; they
get paid for selling, and only for selling. Unless the nonselling jobs
(such as taking inventory, setting up displays, collecting back debts)
directly contribute to future sales, you're taking money right
out of their pockets by asking reps to perform them. Some companies have
found it advisable to pay salespeople a nominal fee for handling such
duties."

STRAIGHT SALARY
The most frequent criticism of compensation plans that pay sales
representatives a straight salary is that they eliminate the
employees' incentive to perform. As one sales executive told
Sales and Marketing Management,
companies that offer aggressive incentive structures create hunger
among their salespeople, while those that offer comfortable base salaries
foster an environment of complacency. Other analysts contend, however,
that this admitted drawback can be neutralized to some degree by creating
a company culture that rewards top-notch sales performances with prompt
salary increases and/or promotions.

SALARY PLUS COMMISSION OR OTHER INCENTIVES

This arrangement is by far the most common one employed by organizations
that use salespeople. Proponents tout several meaningful advantages
associated with compensation plans that combine base salaries with
commissions:

Motivates sales force to expend greater effort.

Provides company with a way to extend additional rewards to its best
sales performers.

Closely ties compensation to performance (though not to the same degree
as straight commission arrangements).

Generally easy to administer.

Depending on the arrangement, the bestowal of increased security to
employees may allow the company to take a greater percentage of sales
profits.

Criticisms of compensation plans that combine salary with commissions or
other incentives are usually framed not as rebukes of its philosophical
underpinnings, but rather as laments concerning its execution. For
example, some companies may offer only token commissions, which do little
to foster aggressive salesmanship.

In addition to commissions, some companies choose to provide non-salary
compensation to their sales force through expense accounts, automobile
leasing, advances against future earnings (usually commission), or sales
contests.

Expense accounts are common features in many industries. Indeed,
salespeople in a wide range of industry sectors depend a great deal on
business lunches, etc. to close deals. Moreover, salespeople often are
responsible for large territories, which makes long hours of travel a
fundamental element of their job description. Organizations that do not
compensate such individuals with expense accounts—or free use of
leased automobiles—are likely to have considerable difficulty
finding and retaining gifted salespeople. Indeed, most prospective hires
will view refusal to take care of expenses as a sure sign of company
stinginess and an indication that the company's ownership may not
be cognizant of basic business realities.

Sales contests are another popular tool used by business owners to
encourage sales activities. Under these programs, sales personnel who meet
certain sales goals are rewarded with cash bonuses, paid vacations, etc.
But business experts contend that sales contests can have unintended
consequences for organizations if they are poorly defined or structured so
that only a small segment of the sales force is rewarded. Indeed, some
organizations provide incentives only to a certain percentage of top-level
performers. Such programs—whether commissions or sales
contests—are usually implemented in hopes of creating a competitive
environment, but all too often they have the opposite effect.
"Sure, your top salespeople are thrilled about the
program—for them, it most likely means another trip to Hawaii or
Europe," wrote Melanie Berger in
Sales and Marketing Management.
"But for the vast majority of your sales force, the incentive is
yet another opportunity to do one thing: lose. And nobody feels good about
losing. All too often, executives planning incentive programs for their
sales forces assume they need to motivate and reward their top
performers—the ones who already generate the bulk of their
business. Less successful—shall we say, average—players are
ignored, left to remain, well, average."

In order to counteract the negative characteristics associated with
traditional sales contests, many business consultants recommend that
businesses instead institute so-called "open-ended"
incentive programs. These programs are designed so that participants
compete against their own past performances rather than their fellow
salespeople. As one sales manager told Berger, "Very often with
closed-ended programs [traditional programs in which salespeople compete
against one another for a limited number of rewards], people use the
excuse, 'Her territory is better than mine' or, 'They
were lucky and closed a big sale; it was the right place at the right
time.' The incentive programs that work the best are the ones that
are considered fair. What's fair is to have people competing
against themselves—that way you're being compared to what
you've done in the past, not what the guy next to you is
doing." In addition, Berger noted that open-ended programs can be
shaped in two-tiered fashion so that a business's very best sales
performers receive some extra recognition. For example, sales-people that
increase their sales by 10 percent might receive a nice prize, while those
that increase their sales by 20 percent would receive an even better one.
Open programs, said Berger, can be used in place of closed programs so
that "rather than getting better results from just a small number
of salespeople, companies can potentially inspire improved performance
from all of them. And that translates into increased sales and a stronger
bottom line."

Berger did note, however, that there are two objections that are commonly
raised to open-ended sales incentives. The first is that such initiatives
cast
greater uncertainty on sales budgeting efforts. After all, companies that
offer an open program "don't know in advance how many
winners they'll have or how many prizes they'll need to
award." In addition, some observers contend that open programs
actually can detract from the performance of a business's top
salespeople. "If all reps have to do to win is increase sales by 15
percent, the top producers in an open-ended program could hit that mark
well before the year is over, and coast the rest of the way," said
Berger. But the impact of both of these negative attributes can be largely
neutralized through careful planning (such as studying multi-tiered
programs) and continuous monitoring.

FUTURE CHALLENGES

Business researchers believe that companies will have to continually
adjust their sales commission/incentives packages in the coming years in
order to remain competitive, since the overall business environment is
changing with such rapidity. For example, salespeople are now seen as more
likely to move not only from business to business but also from industry
to industry. "Salespeople, despite their market specialization,
have one thing in common: They want to make lots of money,"
observed Michele Marchetti in
Sales and Marketing Management.
"And these high-performing people will seek out companies with
competitive pay plans—regardless of the industry."

In addition, increased emphasis on customer satisfaction and increasing
market share with current customers is likely to broaden the
responsibilities of salespeople, who will in turn expect to be compensated
appropriately. "Today's selling environment is frustrating
and fascinating," said Marchetti. "Technology is propelling
us into a new way of thinking about business strategy and the way we
define success. As always, though, salespeople will do what they're
rewarded for doing. That's why compensation plans have to keep up
with the changing selling methods. Sales managers must motivate their reps
to build real relationships between customers and company, in order to
increase the share of each customer's business and to increase the
value of each customer to the company."

FURTHER READING:

Berger, Melanie. "When Their Ship Comes In: How to Create an
Incentive Program that Motivates All of Your Salespeople—and Sends
More Happy Winners on that Coveted Trip."
Sales and Marketing Management.
April 1997.